The Legal Process of a SaaS or E-Commerce Acquisition
We are seeing tremendous growth in the number of online businesses being bought and sold. This is a trend that began before the pandemic, but the pandemic has accelerated the trend as more and more people start online businesses and more sophisticated buyers have entered the field. We represent both buyers and sellers through this process and have been asked similar questions about the process from both sides of the transaction. This article outlines the process of purchasing or selling an online business.
The first stage in the process is sourcing the deal. This first stage often doesn’t involve lawyers, but we can offer some guidance to potential buyers or sellers who are unfamiliar with the market for online businesses. There are myriad strategies for deal sourcing from both the buyer’s and the seller’s perspectives. Starting with the seller, it is easier than ever to access potential buyers through a number of new online platforms that have been created within the last couple of years. There seems to be a new such platform every quarter at least at the moment. The terms of these platforms vary, but in a rush to get as much deal flow on their respective platforms the terms on offer can be highly favorable for sellers.
From the buyer’s perspective, the new search platforms offer access to deal flow that was previously unavailable. There are also software tools on the market that help filter deal flow to find potential investments that suit the buyer’s needs. Each of these marketplaces has a slightly different business model, with some using tiered memberships and others taking what might be considered a more traditional finder’s fee for generating listings. Potential buyers should do some research into the various marketplaces to search for the one or ones that best suit their investment approach.
There can be an intermediary stage next, after the buyer finds a potential deal but before the buyer is ready to make an offer to purchase the business. In this stage, the buyer asks for information about the seller’s business (its performance, growth, key metrics, etc.). Before providing such information to prospective buyers, sellers will want the prospective buyers to sign a non-disclosure agreement (“NDA”). The purpose of the NDA is to protect the seller’s sensitive business information and sellers should be sure that the NDA they send to prospective buyers is broad enough and has a sufficient duration. This preliminary stage does not always take place but becomes more common as the contemplated purchase price increases.
The next stage, and probably the most important stage in the transaction from a business standpoint if not a legal one, is the Letter of Intent (“LOI”). This is the document that contains the main terms of the transaction. These main terms include: a general listing of the assets being purchased; the total purchase price; the form of payment; the payment schedule; negotiation exclusivity; any deposit to be paid by the buyer; and what access rights the prospective buyer will have during the due diligence process. Signing an LOI does not create a binding obligation for either the buyer or the seller to complete the transaction. There will be certain terms, however, that are binding. Common binding terms include the confidentiality or non-disclosure provision and the exclusivity provision. Many clients do not obtain legal counsel until after an LOI is signed, but experienced deal counsel will be able to provide guidance and education going into LOI negotiations so that potential buyers or sellers get the best terms possible in the transaction and don’t miss something important that could cause the deal to blow up before closing.
After an LOI is signed, the due diligence process takes place. Due diligence is the legal term for the process through which a buyer verifies that the seller’s business is how the seller described it. The amount of due diligence varies in proportion to the size of the transaction—a larger purchase price tends to mean a greater amount of due diligence by the buyer. Certain qualities of online businesses simplify the due diligence process. There are often not a lot of physical assets so site visits aren’t common. There can be employees, but there are likely fewer than in more traditional businesses. There are also likely to be fewer regulatory requirements, but regulatory approvals will still be part of the due diligence process.
Once the buyer has completed the due diligence process, the transaction moves towards closing. This is when the lawyers will be most involved in the transaction. The parties will take the LOI and whatever was learned during due diligence to negotiate the definitive deal documents. These documents are the asset purchase agreement, the bill of sale, and the assignment and assumption agreement. All three will be executed at the same time and act together to implement the transaction.
The asset purchase agreement is the master document. In it, the terms from the LOI will be expanded and additional terms added to make it the lengthiest document and the one where the lawyer will spend the most time making sure all of the clauses work together to accomplish the transaction agreed to in the LOI. Both buyers and sellers should expect to spend time reviewing this document with their lawyers to make sure that they are getting the deal they think they are getting and that there will not be any surprises at closing.
The bill of sale and the assignment and assumption agreement are the documents that formally transfer ownership of the assets and liabilities being purchased by the buyer in the transaction. These are short documents filled with legal formalities, so even though the terms will be standard it is still worth going over these documents with a lawyer to better understand them.
The closing process for online businesses is going to look very similar in most cases. Escrow is going to be used to handle the mechanics of the transaction. In basic terms, the way escrow will work is that the seller will send all of the digital credentials, the code base, and whatever else is being purchased in the transaction to the escrow agent. The buyer will send the escrow agent the purchase price. The escrow agent will then send the assets to the buyer so that the buyer can review them. The exact terms of this review process will be negotiated and included in the asset purchase agreement. If the buyer is satisfied after reviewing the assets, then the escrow agent will release the purchase price to the seller’s bank account. If the buyer is not satisfied, then there will be a process for the parties to remedy any problems.
There may be ongoing relationship between buyer and seller even after final closing occurs. It could be that there is a payment schedule so that the buyer continues to make regular payments to the seller after the closing. It could be that there is an earn-out provision that ties meeting milestones after closing affects a further payment to the seller. There could even be an agreement for the seller to continue working in the business for a while after the closing in order to show the buyer how to operate the business. These arrangements, called transition services agreements, are more common in transactions involving the purchase of physical businesses, but we have seen them for online businesses as well. From the buyer perspective, these agreements can be a great way to get off to a great start in the new business by really learning how the business operated before. From the seller perspective, these arrangements help the buyer to meet the milestones of any earn-out provision so that the seller receives a higher final total for the sale of the business. Helping with a successful transition also boosts the seller’s reputation, which can be invaluable in later business ventures.
If you are considering buying or selling an online business, we will gladly guide you through the process to a successful transaction. Reach out to us at info@barlowwilliams.law and we will schedule a meeting to discuss your goals and how to achieve them efficiently.